Indispensable Economics What are the implications of the enormous national debt?

Aug 19, 2008

Dear Dr. Luckey,

 

As I understand it, the total national debt is now $9.6 trillion.  How did that happen, and what are the implications of this enormous debt?

 

When a credit card company gives you a credit card, they give you a credit limit with it.  This limit is based on your current debt, current income and the likelihood that you will be able to make the payments.  So, if they give you a $500 credit limit, that means that you either have a low income and/or very little credit record.  If they give you a $25,000 credit limit or more, that means the opposite.  In any event, there is a limit as to how much you are able to charge.  If you could raise your own salary to meet your credit obligations, there would be very little problem with a credit limit, because if the payments got too difficult, you could merely give yourself a decent raise.  But suppose that the credit card company allowed you to raise your own credit limit, and would ask no questions.  With this, suppose the credit card company would let you pay more or less whatever you wanted toward the debt.  Well, you thought I was crazy before, now you see clearly that I need to be sent to the funny farm.  What company would ever do that?  The answer--none!

 

There is a good reason why this would never be done.  Despite popular opinion, money does not grow on trees.  Wealth actually has to be produced, and that is done by production.  Productivity increases—wealth increases.  Credit is based on an estimate of increased productivity, and therefore, increase of wealth in the near future.  Giving credit with no increase in productivity in sight is like flushing it down the toilet.

 

But this is how the Federal government actually acts toward money—your money.  The Founding Fathers rightly prohibited an income tax in the Constitution.  But in 1913, the wool was pulled over the eyes of the American citizens and they approved an amendment to the Constitution approving such a tax.  I asked my grandmother (who was born in the 1880’s) why people fell for such an idea.  She said that the promoters promised that the tax was only going to be ½ of 1% and it was only going to apply to the very wealthy, like J. P. Morgan and others like him.   Who could resist?  The government could have more money for a slight tax on the super-rich.  Well, this lasted a year or two and then year after year it crept up to what we have today.

 

But, you say, that explains only the big Federal spending spree that has been going on since 1913.  It doesn’t explain the debt. 

 

Good insight.  It is in everybody’s self interest to try to get something for nothing.  If you see something at a yard sale for $.10, and it is something you’ve been looking for for years, you consider it a steal.  But it really is not.  The person selling it doesn’t want it.   You lucked out, and so you should rejoice.

 

The government does a similar thing.  They sell services for votes. A vote is not worth much economically, maybe one trip to the voting place, or maybe two a year if you vote in the primaries.  In exchange, you get police, fire protection, free schools, protection from foreign enemies, welfare, Medicare and Medicaid.  But wait, you say, I have to pay for those, don’t I, with taxes?  True, but here is where what Hayek calls the “fiscal illusion” comes in. In exchange for the services you receive, the cost is spread out over those who receive, and those who do not receive, the services.  Public schools, for instance, are paid for by everybody:  childless couples, single people, those sending their children to private schools and already paying tuition, home schoolers.  So you are not paying dollar-for-dollar of services.  Also, to keep the taxes down, the government does not pay for all of it either.  Every year the Federal government spends much more than it takes in, in order to be able to buy votes yet avoid a tax revolt.  It borrows money and even prints money to pay its bills.  This means that the real cost of government is no where near what you pay in taxes.  It is estimated that the Federal government this year will spend nearly $400 billion than it takes in from taxes.  That means that you received 16% more in services that was paid for by taxes, and the rest was paid for by borrowing and/or printing money.  This debt accumulates every year, and no one has the will power to do anything about it, despite the cries of economists and outraged citizens.

 

Who is going to pay all those bonds when they are due?  You, your children and grandchildren.  Debt service, i. e., the repaying of the bonds runs about 19% of the Federal budget each year.  It will increase as the larger deficit bonds come due.  This is like you paying 19% of your income on paying off your credit cards, but the amount you borrow each year increases.  So if you net $30,000 per year, you are then paying $5,700 to credit cards with no end in sight.  This also means that you buy substantially more than $30,000 in stuff each year.  If this in very imprudent for a citizen, why should it be permissible for the government to do it?